CYREN Ltd. - Quarter Report: 2020 June (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2020

OR

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                       to                     

Commission file number: 000–26495

CYREN LTD.

(Exact name of Registrant as specified in its charter)

Registrant’s telephone number, including area code 011–972–9–863–6888

Securities registered pursuant to Section 12(b) of the Act:

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒  No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒  No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes ☐  No ☒

Indicate the number of shares outstanding of each issuer’s classes of common stock, as of the latest practicable date: 60,413,557 ordinary shares as of July 31, 2020.

Table of Contents

CYREN LTD.

CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

AS OF JUNE 30, 2020

($USD in thousands, except share and per share amounts)

(Unaudited)

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS.

CYREN LTD.

CONDENSED CONSOLIDATED BALANCE SHEETS

($USD in thousands, except share and per share amounts)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED BALANCE SHEETS

($USD in thousands, except share and per share amounts)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

($USD in thousands, except share and per share amounts)

(Unaudited)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

($USD in thousands, except share and per share amounts)

(Unaudited)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY 

($USD in thousands, except share amounts)

(Unaudited)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

($USD in thousands, except share and per share amounts)

(Unaudited)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

($USD in thousands, except share and per share amounts)

(Unaudited)

The accompanying notes are an integral part of the interim consolidated financial statements.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

Cyren Ltd. (henceforth “Cyren”) was incorporated under the laws of the State of Israel on February 10, 1991 and its legal form is a company limited by shares. Cyren listed its shares to the public on July 15, 1999 under the name Commtouch Software Ltd. and changed its legal name to Cyren Ltd. in January 2014. Cyren and its subsidiaries, unless otherwise indicated will be referred to in these consolidated financial statements as the “Company”.

The Company is a cybersecurity company providing email security and threat intelligence solutions. The Company sells its cloud-based solutions worldwide, in both embedded and Security-as-a-Service models, to Original Equipment Manufacturers (“OEMs”), service providers and enterprises. The Company operates in one reportable segment, which constitutes its reporting unit. Operating segments are defined as components of a business that can earn revenues and incur expenses for which discrete financial information is available that is evaluated on a regular basis by the chief operating decision maker (“CODM”). The Company’s CODM is its principal executive officer, who decides how to allocate resources and assess performance. A single management team reports to the CODM, who manages the entire business. The Company’s CODM reviews consolidated results of operations to make decisions, allocate resources and assess performance and does not evaluate the profit or loss from any separate geography or product line.

The accompanying consolidated balance sheet as of June 30, 2020, the consolidated statements of operations, the consolidated statements of comprehensive loss and the statement of changes in shareholders’ equity for the three and six months ended June 30, 2020 and 2019, as well as the consolidated statements of cash flows for the six months ended June 30, 2020 and 2019, are unaudited. These unaudited interim consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) and applicable rules and regulations of the Securities and Exchange Commission regarding interim financial reporting. In management’s opinion, the unaudited interim consolidated financial statements include all adjustments of a normal recurring nature necessary for the fair presentation of the Company’s financial position as of June 30, 2020, as well as its results of operations for the three and six months ended June 30, 2020 and 2019. The results of operations for the three and six months ended June 30, 2020 are not necessarily indicative of the results to be expected for the year ending December 31, 2020 or for other interim periods or for future years.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates, judgments and assumptions. The Company’s management believes that the estimates, judgments and assumptions used are reasonable based upon information available at the time they are made. These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the interim consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. On an ongoing basis, the Company’s management evaluates estimates, including those related to fair value and useful lives of intangible assets, fair value of earn-out liabilities, valuation allowance on deferred tax assets, income tax uncertainties, fair values of stock-based awards, other contingent liabilities and estimates used in applying the revenue recognition policy. Such estimates are based on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

The accompanying unaudited interim financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on March 30, 2020.

Other than the change described below, there have been no changes to the significant accounting policies described in the Annual Report on Form 10-K for the fiscal year ended December 31, 2019 that have had a material impact on the unaudited interim consolidated financial statements and related notes.

In August 2018, the FASB issued ASU No. 2018-15, Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract (“ASU 2018-15”). ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The update to the standard is effective for interim and annual periods beginning after December 15, 2019, with early adoption permitted. Entities can choose to adopt the ASU 2018-15 prospectively or retrospectively. The adoption of the standard had an immaterial impact on the Condensed Consolidated Financial Statements.

In January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. ASU 2017-04 eliminates step two of the goodwill impairment test and specifies that goodwill impairment should be measured by comparing the fair value of a reporting unit with its carrying amount. Additionally, the amount of goodwill allocated to each reporting unit with a zero or negative carrying amount of net assets should be disclosed. ASU 2017-04 is effective for annual or interim goodwill impairment tests performed in fiscal years beginning after December 15, 2019, and early adoption is permitted. The adoption of the standard had an immaterial impact on the Condensed Consolidated Financial Statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU 2016-13 amends the impairment model to utilize an expected loss methodology in place of the currently used incurred loss methodology, which will result in the more timely recognition of losses. This standard requires entities to estimate an expected lifetime credit loss on financial assets ranging from short-term trade accounts receivable to long-term financings and report credit losses using an expected losses model rather than the incurred losses model that was previously used. The new accounting standard will be effective for the fiscal year beginning on January 1, 2020, including interim periods within that year. The adoption of the standard had an immaterial impact on the Condensed Consolidated Financial Statements.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited) 

The Company adopted the new standard as of January 1, 2019, using the modified retrospective approach. The modified retrospective approach provides a method for recording existing leases at adoption and in comparative periods that approximates the results of a full retrospective approach. The Company has elected to utilize the available package of practical expedients permitted under the transition guidance within the new standard which does not require it to reassess the prior conclusions about lease identification, lease classification and initial direct costs.

In addition, the Company has elected the short-term lease exception for leases with a term of 12 months or less. As part of this election it will not recognize right-of-use assets and lease liabilities on the balance sheet for leases with terms less than 12 months. The Company also elected the practical expedient to not separate lease and non-lease components for all our leases. This will result in the initial and subsequent measurement of the balances of the right-of-use asset and lease liability being greater than if the policy election was not applied.

Some leases include one or more options to extend the lease. The exercise of options to extend the lease is typically at the Company’s sole discretion; therefore, the majority of renewals to extend the lease terms are included in our right of use assets and lease liabilities as they are reasonably certain of exercise. The Company regularly evaluates the renewal options, and, when it is reasonably certain of exercise, it will include the renewal period in its lease term. Lease modifications result in remeasurement of the lease liability. 

The right-of-use asset and lease liability are initially measured at the present value of the lease payments, discounted using the interest rate implicit in the lease or, if that rate cannot be readily determined, the Company’s incremental borrowing rate based on the information available at the date of adoption in determining the present value of the lease payments.

Some of the real estate leases contain variable lease payments, including payments based on an index or rate. Variable lease payments based on an index or rate are initially measured using the index or rate in effect at lease adoption. Additional payments based on the change in an index or rate are recorded as a period expense when incurred. 

Income from subleased properties is recognized and presented as a reduction of costs, allocated among operating expense line items, in the Company’s Consolidated Statements of Operations and Comprehensive Loss. In addition to sublease rent, variable non-lease costs such as common-area maintenance and utilities are charged to subtenants over the duration of the lease for their proportionate share of these costs. These variable non-lease income receipts are recognized in operating expenses as a reduction to costs incurred by the Company in relation to the head lease.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

The Company has various operating leases for office space and vehicles that expire through 2030. Below is a summary of our operating right-of-use assets and operating lease liabilities as of June 30, 2020:

The short-term lease liabilities are included within accrued expenses and other short-term liabilities in the consolidated balance sheet.

Minimum lease payments for our right of use assets over the remaining lease periods as of June 30, 2020, are as follows:

Premises rent expense was $732 and $565 for the three months ended June 30, 2020 and 2019, respectively and $1,386 and $1,101 for the six months ended June 30, 2020 and 2019, respectively.

As of June 30, 2020, Cyren subleases two real estate properties. Sublease receipts were $119 and $69 for the three months ended June 30, 2020 and 2019 respectively and $190 and $138 for the six months ended June 30, 2020 and 2019, respectively.

The Company has elected the practical expedient to not separate lease components from non-lease components. 

The weighted average remaining lease terms and discount rates for all of operating leases were as follows as of June 30, 2020:

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

In connection with specific research and development, the Company received $3,699 of participation payments from the IIA through June 30, 2020, but no grants since 2018. In return for the IIA’s participation in this program, the Company is committed to pay royalties at a rate of 3.5% of the program’s developed product sales, up to 100% of the amount of grants received plus interest at annual LIBOR rate. The Company’s total commitment for royalties payable with respect to future sales, based on IIA participations received, net of royalties paid or accrued, totaled $2,667 and $2,765 as of June 30, 2020 and December 31, 2019 respectively. For the three months ended, June 30, 2020 and 2019, $69 and $84, respectively, were recorded as cost of revenues with respect to royalties due to the IIA. For the six months ended, June 30, 2020 and 2019, $110 and $136, respectively, were recorded as cost of revenues with respect to royalties due to the IIA.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

Ordinary shares confer upon their holders the right to receive notice to participate and vote in general shareholder meetings of the Company and to receive dividends, if declared.

On December 5, 2018 the Company issued $10,000 aggregate principal amount of convertible notes in a private offering. The notes are unsecured, unsubordinated obligations of Cyren and carry a 5.75% interest rate, payable semi-annually in (i) 50% cash and (ii) 50% cash or ordinary shares at Cyren’s election. The notes have a 3-year term and are expected to mature in December 2021, unless converted in accordance with their terms prior to maturity. The notes were issued with a conversion price of $3.90 per share which was subject to adjustment using a weighted average ratchet mechanism based on the size and price of future equity offerings and the total shares outstanding. On November 7, 2019 Cyren announced the closing of a rights offering that raised gross proceeds of $8,019. As a result of this offering, the conversion price of the convertible notes was adjusted to $3.73. In addition, the notes would be subject to immediate conversion upon any change in control in the Company (or subject to repayment if the price in the change in control transaction is less than the conversion price). The Company incurred interest expense for the three and six months ended June 30, 2020 of $142 and $283, respectively. In June 2020, the Company paid semi-annual interest payments totaling, $288, of which $144 was paid in cash and the remaining portion through the issuance of 129,376 shares.

The Company has accrued interest of $28 as of June 30, 2020.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

In March 2020, the Company entered into purchase agreements with a select group of accredited investors for the purchase of $10.25 million aggregate principal amount of Convertible Debentures in a private placement. Upon the closing, the Company received approximately $9.4 million (net of $0.8 million in issuance expenses).

The debentures are unsecured, subordinated obligations of Cyren and carry a 5.75% interest rate per annum, payable semi-annually in cash or ordinary shares at Cyren’s election. The debentures have a four-year term and mature in March 2024, unless converted in accordance with their terms prior to maturity. The debentures have a conversion price of $0.75 per share and are convertible into 1,333 ordinary shares per $1,000 principal amount of debentures. The conversion price is subject to adjustment based on the price and timing of future equity offerings and other customary adjustments. Upon the satisfaction of price and other conditions, Cyren has the right to force the conversion of the debentures.

On June 11, 2020, one of the debenture holders converted $48 of principal plus interest of their debentures, which was a portion of their holding. The principal and interest was paid through the issuance of 64,542 shares.

The Company incurred interest expense for the three and six months ended June 30, 2020 of $187 and $211, of which $44 and $49 are related to the amortization of debt issuance costs, respectively.

The Company has accrued interest of $163 as of June 30, 2020.

On December 22, 2016, the Company’s shareholders approved a new equity plan - the 2016 Equity Incentive Plan (the “Equity Incentive Plan”). This plan, along with its respective Israeli appendix, replaced all then-existing employee and consultants stock option plans.

The Equity Incentive Plan allows for the issuance of Restricted Stock Units (“RSUs”), as well as options. The options and RSUs generally vest over a period of four years. Options granted under the Equity Incentive Plan generally expire after six years from the date of grant. Options and RSUs cease vesting upon termination of the optionee’s employment or other relationship with the Company. The per share exercise price for options shall be no less than 100% of the fair market value per ordinary share on the date of grant. Any options and RSUs that are cancelled or not exercised within the option term become available for future grant.

On July 30, 2019, the shareholders of the Company approved an increase in the number of Ordinary Shares reserved for issuance under the 2016 Equity Incentive Plan and its respective Israeli Appendix to a total of 11,200,000.

As of June 30, 2020, an aggregate of 9,233,414 ordinary shares of the Company are still available for future grant under the Equity Incentive Plan.

On December 22, 2016, the Company’s shareholders approved a new equity plan - the 2016 Non-Employee Director Equity Incentive Plan (the “Non-Employee Director Plan”). This plan, along with its respective Israeli appendix, replaced all existing Directors stock option plans.

The Non-Employee Director Plan allows for the issuance of Restricted Stock Units (“RSUs”), as well as options. Each option and RSU granted under the Non-Employee Plan generally vests over a period of four years. Each option has an exercise price equal to the fair market value of the ordinary shares on the grant date of such option. Options granted under the Non-Employee Director Plan generally expire after six years from the date of grant. Options and RSUs cease vesting upon termination of the relationship with the Company.

On July 30, 2019 the shareholders of the Company approved an increase in the number of Ordinary Shares reserved for issuance under the Non-Employee Director Plan and its respective Israeli Appendix to a total of 1,150,000 Ordinary Shares.

As of June 30, 2020, an aggregate of 842,882 ordinary shares of the Company are still available for future grant to non-employee directors. 

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

As of June 30, 2020, the Company had $2,046 of unrecognized compensation expense related to non-vested stock options granted to employees and directors, expected to be recognized over a remaining weighted average period of 2.61 years.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

The options vest and become exercisable at a rate of 1/16 of the options every three months.

As of June 30, 2020, the Company did not have any unrecognized compensation expense related to non-employee and non-director non-vested stock options.

As of June 30, 2020, the Company had approximately $2,087 of unrecognized compensation expense related to RSUs, expected to be recognized over a weighted average period of 2.53 years.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

Summary information about geographic areas:

ASC 280, “Segment Reporting,” establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The Company manages its business on the basis of one reportable segment and derives revenues from licensing of software and sales of professional services, maintenance and technical support (see note 1 for a brief description of the Company’s business). The following is a summary of revenues within geographic areas:

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

During the quarter ended June 30, 2020 and 2019, 23% and 20%, respectively, of the Company’s revenues were derived from a single customer. For the quarter ended June 30, 2020, no other customer accounted for more than 10% of total revenue.

As of June 30, 2020, approximately $50,433 of revenue is expected to be recognized from remaining performance obligations that are unsatisfied (or partially unsatisfied) for non-cancellable contracts. The Company expects to recognize revenue on approximately 32% of these remaining performance obligations during the remainder of 2020, approximately 44% in 2021, with the remainder recognized thereafter.

CYREN LTD.

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS

($USD in thousands, except share and per share amounts)

(Unaudited)

- - - - - - - - - - - - -

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the information contained in our consolidated financial statements and the notes thereto. The following discussion and analysis includes forward-looking statements that involve certain risks and uncertainties, including, but not limited to, those described in Item 1A. Risk Factors in our most recent Annual Report on Form 10-K (the “2019 Annual Report”). Our actual results may differ materially from those discussed below. See “Special Note Regarding Forward-Looking Statements” below.

Overview

Purpose built for the cloud, Cyren is an early pioneer and leading innovator of Software-as-a-Service (SaaS) security solutions that protect businesses, their employees and customers against threats from email and the web.

Cyren’s cloud-based approach to security sets us apart from other vendors in the market. Our security solutions are architected around the fundamental belief that cyber security is a race against time – and the cloud best enables the speed, sophistication and advanced automation needed to detect and block threats as they emerge on the internet. As more and more businesses move their data and applications to the cloud, they need a security provider that is able to keep pace.

Cyren’s security cloud delivers faster detection and protection, with SaaS security solutions that inspect web and email traffic before it reaches a user’s browser or inbox – often identifying and blocking threats in just seconds. Our SaaS solutions are easy to deploy and manage, delivering critical security and faster innovation, for a low total cost of ownership.

Cyren’s cloud security products and services fall into three categories:

Key Opportunities and Challenges

Threat Landscape

The last several years have possibly experienced the greatest amount of dramatic global incidents directly related to malware and cyber threats since the advent of the internet. From election hacks to global ransomware attacks, malware threats are at an all-time high. Phishing attacks have become increasingly common, and no company, large or small seems immune to these threats. Additionally, with so many employees now working remotely due to the COVID-19 pandemic, companies may face an increased risk of attempted security breaches and incidents. Hackers have become more successful at monetizing these attacks, and as long as these activities prove lucrative, we expect these incidents to continue.

Cloud and Mobility

Businesses are going through a massive change in their IT strategies as they look to drive more business value, agility, and better customer experiences, while cloud and mobility are becoming increasingly important, as evidenced by the following trends:

These are some of the reasons why we believe Cyren’s vision for 100% cloud security is compelling to IT security teams looking to protect their businesses in today’s cloud-centric mobile-first world.  

Investments in Operations, Research and Development and Sales and Marketing

Our cost of revenues, research and development expenses, and sales and marketing expenses are all significant contributing factors to our operating losses. Over time, we expect that our utilization of our cloud infrastructure will increase and provide the opportunity for improved gross margins. Our investments in research and development are required in order to enhance and improve our solutions. In the future, we expect to lower the rate of Research and Development (R&D) investment as a percentage of revenue, and we expect to be able to drive more revenue from existing solutions rather than by adding new solutions. The return on our sales and marketing investment is tied to attracting new customers and enhancing our business with existing customers, thereby lowering the overall sales and marketing costs as a percent of revenues. In the second quarter of 2020, headcount declined as we continue to reduce expenses, and we believe managing future headcount and expense growth will be key in improving our gross and operating margins over time.

Growing Our Enterprise Business

Although all of our services are subscription services, our enterprise offerings on the CCS and CIS platforms are typically invoiced up front for an annual contract amount, or the full multi-year contract amount, at the start of the term. As a result, this business is expected to provide a larger immediate contribution to cash flow and better return on investment. As this enterprise business grows as a portion of our overall revenues, we expect to increase deferred revenue and our operating results and cash flow to improve, which will make us less reliant on other sources of capital in the future.

Components of our Operating Results

Revenue

We derive revenues from the sale of real-time cloud-based services for each of Cyren’s email security, web security, antimalware and advanced threat protection offerings.

We sell all of our solutions as subscription services, either through OEMs and service providers, which are considered Cyren customers, or as complete security services directly, or indirectly via our partners, to enterprises.

Cost of Revenue

Personnel costs, which consist of salaries, benefits, bonuses and stock-based compensation for employees that operate our network and provide support services to our customers, as well as data center costs, are the most significant components of our cost of revenues. Other costs include third party contractors, royalties for use of third-party technologies, amortization of intangibles and depreciation of data center equipment. We expect these costs may increase in absolute dollars as we continue to optimize our cloud infrastructure and our support services but should reduce as a percentage of overall revenue.

Operating Expenses

Our operating expenses consist of research and development, sales and marketing, and general and administrative expenses. Personnel costs, which consist of salaries, benefits, bonuses, and stock-based compensation, are the most significant component of our operating expenses. Operating expenses also include allocated overhead costs for facilities, IT and depreciation. We expect operating expenses to increase in absolute dollars as we continue to grow.

Research and Development. Research and development expenses consist primarily of personnel costs, outsourced engineering and threat analysis services. We believe these investments are crucial for our ability to continue to enhance the functionality of our services, as well as to develop and introduce new services to the market. We expect research and development expenses may increase as we release new products during 2020, due to a reduction in capitalized costs which reduces R&D expenses. Development costs related to internal use technology that supports our security services are capitalized on the balance sheet, while other development costs are expensed as they are incurred.

Sales and Marketing. Sales and marketing expenses primarily include personnel costs, sales commissions, marketing activities, and travel associated with sales and marketing. We market and sell our services worldwide through our sales organization and distribution channels. We capitalize sales commissions paid to internal sales personnel and amortize these expenses over an estimated period of benefit that reflects the expected future revenue streams. We reduced sales and marketing expense in 2019 and in the first half of 2020 but anticipate that we may need to increase investment in these areas as we launch our new products and enhance our sales and marketing teams to support our further growth. Our sales personnel are typically not immediately productive, and therefore the increase in expenses we incur when adding personnel is not immediately accompanied by increased revenue and in some cases may not result in increased revenue if these new sales personnel are unsuccessful in becoming productive.

General and Administrative. General and administrative expenses consist primarily of personnel costs, audit fees, legal expenses, recruiting expenses and other general operating costs. We expect our general and administrative expenses to grow in absolute dollars as we continue our operational growth. 

Other Income (Expense), net

Other income (expense), net consists generally of capital gain or loss from the sale of assets. However, in the first quarter of 2019, we reached a financial settlement with the former shareholders of eleven related to the legal dispute regarding the amount and timing of the earn-out payments related to the acquisition of eleven (the “eleven settlement”). Since the financial settlement was less than the accrued interest and the unpaid earn-out consideration on the Company’s balance sheet, the difference was reflected as other income during the period.

Financial Expenses, net

Financial expenses, net consist mainly of foreign exchange gains and losses, interest expense on our outstanding debt and interest income earned on our cash and cash equivalents. In 2019 and 2020, these expenses also included income related to the accounting for a multi-year arrangement where a customer paid upfront the full contract value. This has been deemed a significant financing component under ASC 606.

Tax Benefit

Our tax benefit is derived primarily from income taxes in foreign jurisdictions in which we conduct business. We estimate income taxes in each of the jurisdictions in which we operate. This process involves determining income tax expense together with calculating the deferred income tax expense related to temporary differences resulting from the differing treatment of items for tax and accounting purposes. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. These temporary differences result in deferred tax assets and liabilities, which are included net as applicable within our balance sheets. For most of our recent years, we have incurred operating losses in Israel and the U.S., where we have recorded a full valuation allowance against our deferred tax assets in those jurisdictions.

RESULTS OF OPERATIONS

The following table sets forth financial data for the three and six months ended June 30, 2020 and 2019. Percentages may not add due to rounding.

Three and Six Months Ended June 30, 2020 Compared to the Three and Six Months Ended June 30, 2019

Revenues. Revenues for the three and six months ended June 30, 2020 decreased $0.5 million, or 5%, and $0.5 million or 3%, respectively, as compared to the corresponding periods last year. The decrease was primarily driven by renewals of customer contracts at lower values, a one-time revenue item in the first quarter of 2020 and a small number of customer terminations in the Threat Intelligence and Enterprise businesses, but overall contract renewal rates were consistent with prior periods.

Cost of Revenues. Cost of revenues for the three and six months ended June 30, 2020 was consistent with three months ended June 30, 2019 and for the six months ended June 30, 2020 cost of revenues decreased $0.4 million or 5%, respectively, as compared to the corresponding period last year.

For the three months ended June 30, 2020, cost of revenues represented 41% of revenue, compared to 39% during the prior year, and accordingly gross margins for the period were 59% for the three months ended June 30, 2020 compared to 61% for the same period in the prior year. For the six months ended June 30, 2020 cost of revenues represented 39% of revenue, compared to 40% during the prior year, and accordingly gross margins for the period were 61% for the six months ended June 30, 2020 compared to 60% for the same period in the prior year. The decrease on a year to date basis is driven by a decrease in amortization of capitalized development expenses and intangible assets of $0.6 million, a decrease of $0.1 million in payroll and related costs primarily driven by lower headcount and a $0.1 million decrease in the use of outside services and consultants. Offsetting the overall decrease, was an increase of $0.4 million related to our continued investment in our global network and data centers as well as depreciation associated with investments in data center assets.

Operating Expenses. Total operating expenses for the three and six months ended June 30, 2020 decreased $0.5 million, or 5%, and $2.4 million or 11%, respectively, as compared to the corresponding periods last year.

Operating expenses for the three months ended June 30, 2020 and 2019 represented 106% of revenue, respectively. For the six months ended June 30, 2020, operating expenses represented 98% of revenue, compared to 107% during the prior year. The decrease in operating expenses was primarily due to a decrease in employee headcount, which totalled 229 employees at the end of June 30, 2020, compared to 265 employees at the end of June 30, 2019.

Research and Development, Net. Research and development expenses, net decreased $0.1 million, or 3%, and $1.0 million, or 12%, respectively, for the three and six months ended June 30, 2020, as compared to the corresponding periods last year. R&D expense, net for the three months ending June 30, 2020 represented 45% of revenue, compared to 44% a year ago. For the six months ending June 30, 2020, R&D expense, net represented 40% of revenue compared to 44% a year ago. R&D headcount was 119 employees as of June 30, 2020 compared to 136 as of June 30, 2019.

Capitalization of technology development, which reduces R&D expenses, decreased to $0.4 million for the three months ended June 30, 2020 from $0.7 million for the three months ended June 30, 2019 due to the launch of a new product in April 2020. The decrease in R&D expense, net is mainly driven by reduced employee headcount leading to lower payroll and related costs of $0.3 million and a decrease in travel of $0.1 million.

Capitalization of technology development, which reduces expenses, increased to $1.6 million for the six months ended June 30, 2020 from $1.4 million for the six months ended June 30, 2019 primarily driven by increased development late in 2019 and early 2020 in advance of the new product launch in April 2020. The decrease in R&D expense, net is also driven by reduced employee headcount leading to lower payroll and related costs of $0.6 million and a decrease in travel of $0.1 million.

Sales and Marketing. Sales and marketing expenses decreased $0.4 million, or 12%, and $1.3 million, or 17%, respectively, for the three and six months ended June 30, 2020, as compared to the corresponding periods last year. Sales and marketing expense for the three months ending June 30, 2020 represented 34% of revenue, compared to 37% a year ago. For the six months ending June 30, 2020, sales and marketing expense represented 33% of revenue compared to 38% a year ago. The decrease in sales and marketing expense was due to a reduction of overall sales and marketing headcount from 56 employees to 42 employees at the end of the second quarter of 2020 compared to the second quarter of 2019, as well as a reduction in overall marketing spend primarily related to travel, advertising and industry trade shows.

General and Administrative. General and administrative (G&A) expenses increased $0.1 million, or 3% for the three months ended June 30, 2020 and decreased $0.1 million, or 3%, for the six months ended June 30, 2020, as compared to the corresponding periods last year. G&A expense for the three months ending June 30, 2020 represented 27% of revenue, compared to 25% a year ago. For the six months ending June 30, 2020 and 2019, G&A expense represented 25% of revenue.

For the three months ended June 30, 2020 compared to the same period a year ago, stock-based compensation expense increased by $0.2 million due to new equity awards, payroll and other compensation costs increased by $0.1 million. These increases were offset by a decrease in one-time severance costs in 2019 of $0.2 million.

For the six months ended June 30, 2020 compared to the same period a year ago, stock-based compensation expense increased by $0.5 million due to new equity awards, payroll and other compensation costs increased by $0.1 million and costs associated with the use of outside services increased by $0.1 million. These increases were offset by a decrease in legal expenses of approximately $0.5 million related to the resolution of litigation in December 2019, lower bonus accruals compared to a year ago of $0.1 million and one-time severance costs in 2019 of $0.2 million.

Other Income (Expense), Net. Other income, net for the six months ended June 30, 2020 was $0.0 million, compared to an expense of $0.2 million for corresponding periods last year. During the first quarter of 2019, we reached a financial settlement with the former shareholders of eleven related to the legal dispute regarding the amount and timing of the earn-out payments related to the acquisition of eleven (the “eleven settlement”). Since the financial settlement was less than the accrued interest and the unpaid earn-out consideration on the Company’s balance sheet, the difference was reflected as other income during the period. For additional information, please refer to Note 4 of the consolidated financial statements included elsewhere in this quarterly report on Form 10-Q (the “Quarterly Report”).

Financial Expense, Net. Financial expenses, net, increased $0.02 million, or 8%, and $0.20 million, or 62%, respectively, for the three and six months ended June 30, 2020, respectively, as compared to the corresponding periods last year. The increase in expense is due mainly to an increase in interest expenses associated with the Convertible Debentures issued in March 2020. For additional information, please refer to Note 5 of the consolidated financial statements included elsewhere in this Quarterly Report. Interest expense, net, associated with the Convertible Notes and Debentures for the three and six months ended June 30, 2020 was $0.33 million and $0.49 million respectively, compared to $0.10 million and $0.21 million three and six months ended June 30, 2019. In addition, during the three and six months ended June 30, 2020 we also recorded income of $0.06 million and $0.01 million respectively, resulting from the effect of foreign currency exchange rate fluctuation compared to expense of $0.15 million and $0.10 million for three and six months ended June 30, 2019.

In addition, for the six months ended June 30, 2020, there was a $0.02 million decrease in interest income earned on our cash and cash equivalents compared to the six months ended June 30, 2019.

Effective Corporate Tax Rates

Corporate tax rates and real capital gains tax in Israel were 23% for the three months ended June 30, 2020 and 2019.

Our German subsidiary is subject to German tax at a consolidated rate of approximately 30%.

Other non-Israeli subsidiaries are taxed according to the tax laws in their respective countries of residence.

We do not provide deferred tax liabilities when we intend to reinvest earnings of foreign subsidiaries indefinitely. As of June 30, 2020, there are no undistributed earnings of foreign subsidiaries. 

We may currently qualify as an “industrial company” within the definition of the Law for the Encouragement of Industry (Taxation) and, as such, we may be eligible for certain tax benefits, including, inter alia, special depreciation rates for machinery, equipment and buildings, amortization of patents, certain other intangible property rights and deduction of share issuance expenses.

Net Operating Loss Carry-Forwards

As of December 31, 2019, the Israeli entity had net operating loss carryforwards for tax purposes of $91.7 million and capital loss carryforwards of $17.8 million which may be carried forward and offset against taxable income in the future, for an indefinite period.

As of December 31, 2019, the U.S. subsidiary had net operating loss carryforwards of $39.7 million for federal tax purposes and $11.1 million for state tax purposes. These losses may offset any future U.S. taxable income of the U.S. subsidiary and will expire in the years 2020 through 2039.

Management currently believes that based upon its estimations for future taxable income, it is more likely than not that the deferred tax assets regarding the loss carryforwards will not be utilized in the foreseeable future. Thus, a valuation allowance was provided to reduce deferred tax assets to their realizable value.

LIQUIDITY AND CAPITAL RESOURCES

We finance our operations primarily from our cash and cash equivalents and cash from operations. As of June 30, 2020, and December 31, 2019, we had approximately $16.1 million and $11.6 million of cash and cash equivalents, respectively.

Our future capital requirements will depend on many factors, including, but not limited to our growth, market acceptance of our offerings, the timing and extent of spending to support our efforts to develop our platform and the expansion of sales and marketing activities. We may be required to seek additional equity or debt financing. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us or at all. If we are unable to raise additional capital when desired, our business, financial condition and results of operations could be adversely affected.

Outlook

During 2020, we expect to continue to incur capital expenditures associated with R&D and data center infrastructure.  Over the past several years, the Company has devoted most of its effort to research and development, product development and increasing revenues through additional investments in sales & marketing. The Company generated a loss of $7.4 million and negative cash flow of $1.9 million from operating activities in the six-month period ended June 30, 2020 and has an accumulated deficit of $238.7 million as of June 30, 2020. The Company is planning to finance its operations from its existing and future working capital resources and to continue to evaluate additional sources of capital and financing. However, there is no assurance that additional capital and/or financing will be available to the Company, and even if available, whether it will be on terms acceptable to the Company or in amounts required. Accordingly, the Company’s Board reviewed its contingency plan, to be effected if needed, in whole or in part, at its discretion, to allow the Company to continue its operations and meet its cash obligations. The contingency plan consists of cost reduction, which include mainly the following steps: reduction in consultants’ expenses, headcount, compensation paid to key management personnel and capital expenditures. The Company and the Board believe that its existing capital resources and other future measures that may be implemented, if so required, will be adequate to satisfy its expected liquidity requirements for at least twelve months from the filing date.

Periodically, we have discussions with our customers regarding the renewal of their contracts and the renegotiation of the terms of such contracts at the time of renewal. For example, during the first quarter of 2020 we renewed a contract with one of our largest and most long-standing customers from an annual flat fee contract to a variable usage contract at a lower price per unit in return for a two-year extension. Also, during the second quarter of 2020 we renewed one of the contracts with our largest customer to another three-year term. However, the failure to renew future contracts, including the renewal of a large contract during the first half of 2021, could materially reduce our revenues and have a material adverse effect on our financial condition, results of operations and cash flow in 2021.

Cash Flows from Operating Activities

Cash used in operating activities was $1.9 million for the six months ended June 30, 2020 as compared to $0.5 million for the six months ended June 30, 2019.

For the six months ended June 30, 2020, the primary factors affecting our operating cash flows during the period were our net loss of $7.4 million, adjusted for non-cash items of $1.2 million of stock-based compensation expense, $0.9 million for amortization of our operating lease right-of-use assets, $2.5 million for depreciation and amortization of our property, equipment and intangible assets, and $0.8 million for amortization of deferred commissions. The primary drivers of the changes in operating assets and liabilities were a $2.0 million increase in deferred revenue, partially offset by an $1.0 million decrease in operating lease liabilities, and a $0.7 million decrease in capitalization of deferred commissions.

For the six months ended June 30, 2019, the primary factors affecting our operating cash flows during the period were our net loss of $9.1 million, adjusted for non-cash items of $0.6 million of stock-based compensation expense, $0.7 million for amortization of our operating lease right-of-use assets, $2.8 million for depreciation and amortization of our property, equipment and intangible assets, and $0.6 million for amortization of deferred commissions. The primary drivers of the changes in operating assets and liabilities were a $6.4 million increase in deferred revenue due to a 36-month upfront customer payment, $0.7 million in accounts receivable and $0.7 million in the capitalization of deferred commissions, partially offset by an $0.7 million decrease in operating lease liabilities, a $0.8 million decrease in prepaid expenses and other receivables capitalization of deferred commissions, and a decrease in trade payables of $0.8 million.

Cash Flows from Investing Activities

Cash used in investing activities was $3.0 million for the six months ended June 30, 2020 as compared to $2.4 million for the six months ended June 30, 2019. The increase of $0.6 million was primarily due to an increase in capital expenditures of $0.4 million and increased capitalization of technology of $0.2 million compared to the same period a year ago.

Cash Flows from Financing Activities

Cash provided by financing activities was $9.4 million for the six months ended June 30, 2020 as compared cash used in financing activities of $2.1 million for the six months ended June 30, 2019. The change of $11.5 million was primarily attributable to the Convertible Debentures issued in March 2020 with gross proceeds of $10.2 million, offset by payment of debt issuance costs of $0.8 million. This was offset by a payment of $2.7 million in conjunction with the eleven settlement which occurred in the first quarter of 2019. The eleven settlement was also offset by an increase in 2019 of $0.5 million generated from the exercise of stock options in the period.

Working Capital

As of June 30, 2020, and 2019, we had positive working capital of $3.1 million and $1.1 million, respectively. The increase in working capital during the six months ended June 30, 2020 as compared to the prior year was primarily due to the issuance of the Convertible Debentures in March 2020 (the “Convertible Debentures”) offset by a significant upfront customer payment in the first quarter of 2019 for a multi-year agreement of which did not occur in the first quarter of 2020.

Financings

On December 5, 2018, the Company issued $10.0 million aggregate principal amount of convertible notes in a private placement to affiliates of an existing minority institutional shareholder (the “Convertible Notes”). The Convertible Notes are unsecured, unsubordinated obligations of Cyren and carry a 5.75% interest rate, payable semi-annually in (i) 50% cash and (ii) 50% cash or ordinary shares at Cyren’s election. The Convertible Notes have a 3-year term and mature in December 2021, unless converted in accordance with their terms prior to maturity. The Convertible Notes were issued with a conversion price of $3.90 per share which was subject to adjustment using a weighted average ratchet mechanism based on the size and price of future equity offerings and the total shares outstanding.

On November 7, 2019, Cyren announced the closing of a rights offering that raised gross proceeds of $8.0 million. As a result of this offering, the conversion price of the Convertible Notes was adjusted to $3.73. In addition, the Convertible Notes would be subject to immediate conversion upon any change in control in the Company (or subject to repayment if the price in the change in control transaction is less than the conversion price).

On March 19, 2020, we issued $10.25 million aggregate principal amount of Convertible Debentures in a private placement to certain accredited investors (the “Purchasers”). The Convertible Debentures are guaranteed by two of our subsidiaries and carry a 5.75% interest rate, payable semi-annually in cash or, subject to the satisfaction of certain equity conditions, in ordinary shares. The Convertible Debentures mature in March 2024, unless converted in accordance with their terms prior to maturity. The Convertible Debentures have an initial conversion price of $0.75 per share, subject to adjustments. If the closing bid price of our ordinary shares is at least $2.25 (subject to adjustment) for at least 20 trading days during any 30 consecutive trading day period, and certain conditions are satisfied, we may force a conversion of all or any part of the outstanding principal amount of the Convertible Debentures, accrued and unpaid interest and any other amounts then owing, subject to certain conditions.

On June 11, 2020, one of the debenture holders converted $0.05 million of principal.

Earn-Out Consideration

In conjunction with the 2012 acquisition of eleven, the Company entered into an earn-out agreement with the former shareholders that would pay additional consideration based on the revenue performance for the years ending 2012-2015. Subsequently in 2014 the Company had a legal dispute regarding the amount and timing of the earn-out payments and had entered into arbitral proceedings with the former shareholders of eleven. On March 9, 2017, the Company received the arbitral judgement. Pursuant to the judgement, the earn-out consideration balance was increased to reflect additional legal expenses and interest expenses covering the period up to December 31, 2016. During 2017 and 2018, the Company continued to accrue interest on the unpaid earn-out consideration balance. In May 2018, the Company made a partial payment of the earn-out consideration to five of the six former shareholders, in an amount of $604 thousand. The earn-out consideration balance presented on the Company’s balance sheet as of December 31, 2018 reflected the complete remaining liability relating to the earn-out, including accrued interest. In February 2019, the parties agreed to resolve all pending claims, and on February 28, 2019 the Company paid approximately $2.7 million to settle the earn-out consideration in full. For additional information, please refer to Note 4 of the consolidated financial statements included elsewhere in this Quarterly Report.

Registration Statements

In connection with our private placement to Warburg Pincus in November 2017, in which we issued approximately 10.6 million ordinary shares for $1.85 per share, we and Warburg Pincus entered into a registration rights agreement, which, among other things, provides Warburg Pincus with three demand registration rights, piggyback and shelf registration rights. The demand registration rights became exercisable as of August 6, 2018, subject to certain customary blackout periods.

In connection with the issuance of the Convertible Debentures, we entered into a Registration Rights Agreement with the Purchasers. Pursuant to that agreement, we filed a registration statement on Form S-3 with the SEC on May 14, 2020 to cover the resale of the shares of our ordinary shares that are issuable to the Purchasers upon any conversion of the Convertible Debentures or as interest payments.

On September 21, 2018, we filed a shelf registration statement on Form F-3 with the SEC, which we converted to a Form S-3 on August 16, 2019. This registration statement enables us to issue debt securities, ordinary shares, warrants or subscription rights up to an aggregate amount of $50 million. Under the rules governing shelf registration statements, we will file a prospectus supplement with the SEC which describes the amount and type of securities being offered each time we issue securities under this registration statement. No securities were issued under the registration statement on Form F-3. In November 2019, we issued shares as part of our rights offerings using our Form S-3 as described above.

Off-Balance Sheet Arrangements

As of June 30, 2020, we did not have any off-balance sheet arrangements. 

Critical Accounting Policies and Estimates

Our significant accounting policies are discussed in Note 2. Significant Accounting Policies to our consolidated financial statements included in the Company’s 2019 Annual Report. There have been no significant changes to these policies for the three months ended June 30, 2020, except as described in Note 2. Significant Accounting Policies to our condensed consolidated financial statements are included elsewhere in this Quarterly Report. The critical accounting policies requiring estimates, assumptions, and judgements that we believe have the most significant impact on our consolidated financial statements are described in Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our 2019 Annual Report.

 Recent Accounting Pronouncements

Please refer to Note 2. Significant Accounting Policies to our condensed consolidated financial statements included elsewhere in this Quarterly Report for a full description of recent accounting pronouncements.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not required for smaller reporting companies.

Special Note Regarding Forward-Looking Statements

This Quarterly Report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. These statements concern expectations, beliefs, projections, plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts. We urge you to consider that statements which use the terms “anticipate,” “believe,” “expect,” “plan,” “intend,” “estimate”, “will” and similar expressions are intended to identify forward-looking statements. Specifically, this Quarterly Report contains forward-looking statements regarding: